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Nomura Prefers Specialized Retailers Versus Big-Box in Home Improvement (TSCO) (LL) (HD) (LOW)

December 16, 2014 12:57 PM EST
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Price: $261.72 +0.49%

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As noted earlier, Nomura launched coverage on a host of retail stocks in the hardline and home improvement category: Tractor Supply (NASDAQ: TSCO) (Buy, $89 PT), Lumber Liquidators (NYSE: LL) (Buy, $75 PT), Home Depot (NYSE: HD) (Neutral, $110 PT), and Lowe’s (NYSE: LOW) (Neutral, $70 PT). The firm favors underpenetrated, specialized retailers over larger, more mature big-box hardline retailers.

Analyst Jessica Schoen Mace said they have identified several themes that favor specialized retailers, as well as many of the home furnishings names we cover, over more generalized retailers.

"Specialized players often have an underpenetrated store footprint, feature exclusive products and brands that limit comparison shopping or availability of similar products in other channels, and at times have established a competitive advantage within a specific product category," she said. "The big-box players (such as HD, LOW, BBBY) do have the benefit of offering a variety of product categories under one roof, being one-stop shops, and having product authority and high brand awareness; however, we view them as more susceptible to competition from both online and brick-and-mortar players."

The firm believes that TSCO, which is specialized in its focus on the rural customer, has substantial opportunity through its multifaceted growth model. "We expect 8% annual square-footage growth or ~110 stores, mid-single-digit comps, a loyal customer base replenishing needs-based sales, future customer acquisition potential through low market share penetration across categories, and gross margin expansion through strategic initiatives."

Meanwhile, LL, a leading hard-surface flooring retailer with $1bn-plus in revenues, "has many opportunities to expand its top-line growth. We believe that the company benefits from competitive advantages through its direct sourcing model, including price, assortment, and availability," according to Mace. "It also has growth opportunity through market share gains and new store openings."

Mace believes that the home improvement category has several advantages due to aging homes, potential for a continued housing recovery, and a "need now" dynamic in project purchasing that drives demand. While HD and LOW controls ~22% and ~16% of the market, respectively, the analyst views the industry as vulnerable to competition, with two-thirds of customers cross-shopping. While the analyst sees upside in both stocks priced in, she prefers HD over LOW. "HD has generally outperformed LOW on a comp basis since 2Q09, which we attribute in part to HD;s traction with the Pro customer," the analyst notes. "While we believe that both companies have significant opportunity to extend the business they do with Pros, we view HD as having a head start," she added. The analyst also believes both companies have benefited from the challenges in Sears Holdings’ (NASDAQ: SHLD) business, which has lost ~$2bn of share in appliances in the last two years and could continue to lose share.



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